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Squeezing financial inclusion between regulatory pillars

10.11.2014Ignacio Mas

In a panel in a recent IFC/MasterCard Foundation conference in Johannesburg, Mark Flaming of MicroCred reminded us that there is a tension running deep in all regulatory discussions of digital financial services (DFS) for financial inclusion, and that is between the banking and payments traditions. These are differentiated regulatory pillars that are deeply ingrained institutionally as separate departments within every central bank, and as separate committees within the Basel structure at the top of the global regulatory food chain. The two traditions are increasingly encoded legally, as more developing countries are passing payments systems laws distinct from banking laws.

Payment system departments within central banks have an instinctive understanding of network effects, so they tend to be friendly to an inclusion agenda that promises to connect more people to payment networks. Also, their general aspiration is to increase the share of transactions that happen in real time and reduce credit and counterparty risk, so digital financial inclusion platforms are in fact supportive of their system stability objective.

Banking supervision departments, on the other hand, tend to take a much more cautious approach. They tend to worry much more about financial depth relative to the volume of economic activity rather than the size of the population. Their supervisory resources are much more overworked given the inherently more complex and untransparent business of banking, and tend to look at technology, service and business model innovation with more suspicion, as things that could potentially get out of hand. The global financial crisis has of course given them ample evidence to support this instinct. They are more focused on protecting what is (risks) than on pushing the frontiers (opportunities).

So which side of the regulatory house should own, or at least take the lead on, financial inclusion for the masses in developing countries? Things have moved fastest in countries that have given it to the payments side, which tends to be more in tune with infrastructure-light digital service platforms and more comfortable dealing with a broader range of players. Under a new type of e-money issuer (EMI) license, they are letting non-banks (and in particular mobile operators, but also electronic top-up specialists and independent retailers), offer basic transactional services to those for whom traditional banking services are too costly, inconvenient, or simply unavailable.

But this has been the problem: payments people very reasonably worry that this foray into proto-banking risks tipping their side down a regulatory slippery slope that may lead to the kind of burdensome prudential and consumer protection regulation that mires the banking side. One way to avoid this has been to sharpen the differences between electronic money and banking services - so that putting money in an electronic money account is made to feel very different to putting money in an electronic bank account.

Accordingly, EMI licenses in many countries carry tough restrictions such as precluding payment of interest on saved balances, imposing lower account caps, banning their marketing as savings accounts or using the term banking at all, banning the bundling of credit offers even if they are funded externally to the EMI, and excluding them from deposit insurance. But this just seems like an overly limited banking option for the poor: financial inclusion ought to be more than payments.

This sharp distinction between EMIs and banks has also introduced regulatory arbitrage opportunities between banks and EMIs, insofar as the payments and banking supervision departments set different standards for service functions common to both, such as requirements for account opening, e-channel security, and contracting of retail stores as cash in/out agents. In some countries, this has made it easier for mobile operators rather than banks to offer basic financial services to the (traditionally excluded) mass market.

I argue in a new paper that the next round of regulatory reforms for financial inclusion needs to address both these issues. By neglecting savings, the current practice does not serve a full enough vision of financial inclusion.

Firstly, EMIs licensed under payments system frameworks need to be unencumbered from unjustified restrictions. In particular, they should be able to offer savings services on the same basis that banks do. For the essence of banking is not the mere act of taking deposits (which is easy to supervise), but rather the reinvestment of those funds in a way that entails credit and liquidity risk (which is not so easy to supervise). Accordingly, EMIs serving the poor should be reinterpreted as narrow banks - institutions that take deposits from the public and manage customer accounts on the same terms as banks do, but that do not intermediate the corresponding funds. Because narrow banks don´t themselves place bets with depositors´ money, they should remain firmly in the payments pillar.

Secondly, regulation should aim not only to introduce new types of competitors, but also to create a more level playing field between players licensed under banking and payments pillars when they perform similar functions in similar fashion. Banking regulators need to be much more open to adopting the kinds of regulatory practices that payments regulators employ routinely when real-time technology platforms are used in a way that minimizes credit and counterparty risks. A key element here is cash in-cash out (CICO): it should not be any more difficult for banks to engage third-party CICO outlets than it is for EMIs, provided that all transactions happen securely on the bank´s technology platform in real time.

Ignacio Mas is an independent consultant on mobile money and technology-enabled models for financial inclusion. He is also a Senior Research Fellow at the Saïd Business School at the University of Oxford, and a Senior Fellow at the Fletcher School's Centre for Emerging Market Enterprises at Tufts University. Previously, he was Deputy Director of the Financial Services for the Poor program at the Bill & Melinda Gates Foundation, and Global Business Strategy Director at the Vodafone Group. 

Open Letter to Those Thinking of Applying for a New Banking License in Africa

07.04.2014Ignacio Mas

Dear prospective banker,

You have the luxury of building the first bank of the 21st century in Africa. No doubt you are thinking hard about how differently one would build a bank today than one would have done only twenty years ago. We hope your intention is to build a bank that serves everyone: the mass market and the poor, because they are the same thing. If so, may we suggest ten points we think you ought to consider.

1. Technology. That's the biggest area of change since the last round of licenses were given out, surely you can't ignore that. Go mobile: take advantage of the sense of immediacy that mobile phones can deliver to your customers and the drastic reduction in credit risk that real-time payments involve. No sense in distributing an alternative costly payment infrastructure by default, though some may want more. Do beware, though, of building mobile solutions that are too dependent on telco negotiation and goodwill for access, at some point they'll get you.

2. Cash in/out. Your business is digitized financial services but you won't make cash go away from your clients' lives. Rather than fighting cash, you need to infiltrate it so that people feel entirely comfortable crossing the physical-digital divide. The cheapest way of doing this is through extensive cash agent networks. Do recognize that cash agent networks are hungry beasts, though: the economics only makes sense at substantial transaction volumes. Go ahead and share the agents with others if you haven't got the scale on your own; you can differentiate in more interesting ways than mere availability of cash points.

3. Offerings. People's needs and aspirations are quite diverse, but you are not likely to have the distributed marketing wherewithal to offer a broad portfolio of tailored solutions. The better approach is to offer your customers a limited number of money management tools which they can each use in their own way. Don't try to solve their problems; give them the tools and let them solve their own problems. Think more Google than a vertically integrated bank. And don't mind so much whose financial products your customers consume as long as it's done through your interfaces and with your knowledge. Perhaps it's more like Amazon than Google.

4. Messaging. Talk about those things that worry people: reducing risk and stress in their lives, helping them stretch budgets, helping them achieve the things they want, helping them imagine a better future. Again, your job is not to discipline people, but to give them the tools they need to discipline themselves. Don't talk so much about savings (sacrifices) but of future payments/purchases (rewards). No patronizing, no moralizing. Can you be sure that you'd manage their meager income better than they do, if you were in their shoes? Listen to them, and care about their life stories.

5. Channels. You must do everything to position the mobile user interface as a self-service channel of choice. But don't be a purist here: don't give your clients the impression that you have left them to their own devices (literally!). Let them deal with humans when they wish to do so. You'll need a multi-touchpoint strategy to promote, sell and service your suite of financial services. Why not have some (cashless!) flagship shops on main street, appointed agents around market square and the bus station, a friendly call center. Invest heavily in training and monitoring these channels. These sales/service agents are probably going to be distinct to your cash agents, which will need to be much more numerous.

6. Business case. We have no new ideas here: profitability will likely come from credit and payments, as elsewhere and always. But recognize that to prime both you'll need to be successful at capturing people's savings. Observing how people manage their money and discipline themselves is the best way to gain actionable insights for credit scoring. And people will have a natural tendency to pay for things electronically only if they hold their money electronically. Savings is the engine that turns the other financial product cogs. You won't make money on empty accounts, no matter what.

7. Pricing. Don't obsess about offering lowest prices, and certainly don't hammer poor people with this message. They want quality, reassurance, flexibility - just like anybody else. Deliver useful services conveniently and in relevant small sizes, and you'll see how willing they are to pay for things that help them address their basic concerns. You will be more successful in relating the value they derive from your services to its cost if you offer transactional rather than flat charges.

8. Brand. Ultimately, if I was your client I hope I would see your services as a better way of managing my money and my finances, my aspirations and my insecurities. The brand needs to be that mixture of aspiration and reassurance: as a client, I now have more upside and less downside in my life. It has to be more than the sum of the individual products you offer. Brand is the most important asset you'll build up.

9. Partnerships. There is much value to be harnessed from being the one who controls access to people's pockets, the one who has the trusted infrastructure connecting any business to millions of customer account. Grass-roots microfinance organizations have long known that. Seek out national and local partners who can add value to your customer base in financial and non-financial ways: through group purchases and discounting, special business development and education programs, livelihood development, community finance groups, etc.

10. Scale. Embrace scale, for big is the need in Africa. But also because scale may be essential for success on a mobile-led strategy: digital payment services are premised on network effects, and agent networks are premised on economies of density (distributed volume). So: systems need to perform robustly at scale, processes need to be streamlined to avoid future bottlenecks, organizational structures need to help rather than stand in the way of growth and innovation. Your key role as a CEO should be to build platforms that are perceived by your staff as their friend rather than their enemy. If you make sure you build good internal systems, more of your staff will feel they can afford to be more customer-centric more of the time.

There are technically and commercially savvy ways of doing all of this. The developing world needs to draw inspiration from the first successful, truly mass-market bank.

Wishing you all the best, sincerely,

Ignacio Mas

Ignacio Mas is an independent consultant on mobile money and technology-enabled models for financial inclusion. He is also a Senior Research Fellow at the Saïd Business School at the University of Oxford, and a Senior Fellow at the Fletcher School's Center for Emerging Market Enterprises at Tufts University. Previously, he was Deputy Director of the Financial Services for the Poor program at the Bill & Melinda Gates Foundation, and Global Business Strategy Director at the Vodafone Group.

Are there easier paths to mobile money?

25.11.2013Ignacio Mas

Let me say again that I see a huge gap between the potential of new electronic channels and the results that are being observed on the ground. Much as we might convince ourselves of the inexorable logic of bringing financial services to the corner shop near where people live (agent banking) and right onto their hands (mobile money), what I see as I visit country after developing country is too much effort and too many resources being expended in entirely sub-scale operations. Must getting there feel so hard?

Commercial players: don't play hero

As in any network business, mobile money operations are about numbers of customers and breadth of ecosystems. Unless you have the kind of scale Safaricom had in Kenya, are you sure you want to tackle the whole mobile money ecosystem on your own?

Are you sure you can convince people to get off using that grimy physical cash which touches and is immediately accepted by everyone, and instead hop onto your private, exclusive electronic cloud? Your cloud would cast such a bigger shadow on cash if it was combined with all other similar clouds into a single, interconnected electronic payment network for everyone.

Are you sure you want to make the management of cash in/out (CICO) -that thing which wears you down and which you so dearly would like to go away-the key competitive battlefield with everyone else who abhors cash as much as you do? Your cloud would be much more accessible for those sadly stuck on cash if you joined forces with all the other electronic types and worked together to create CICO networks that work for all of providers.

Are you sure you want to take it upon yourself to sign up every primary school who wants to bill parents, and to sign up every small employer who wants to pay employees, one by one? They will not want to force all their parents and employees to join your cloud, and yet they will not have the appetite to sign up with every other cloud, so they'll feel it's easier to just continue with cash like they have always done. They would be so much amenable to e-payments if the various players empowered a few payment aggregators to work on their collective behalf in signing up those schools and employers and distributing the transactions according to who has which parents and workers as their customers.

If players are able to leverage the collective scale, the total will be more than the sum of the parts. But getting to this result requires that the industry as a whole work out which areas they must collaborate on and which areas they want to fight tooth and nail on. Now competition between mobile money operators tends to be focused on size of payment network, ubiquity and liquidity of cash in/out points, and the length of the list of billers/bulk payers signed up. Those are precisely the aspects on which scale matters most, but the resulting fragmentation is only making cash loom more supreme. How about if these became areas of collaboration, and the competitive field was shifted to brand, customer service, product development and quality of user interface instead? Aren't these, in fact, the things that should turn on modern digital-based services?

Regulators: tear down those walls

Many regulators have gone to surprising lengths to allow new services to emerge, often without explicit regulation, against prevailing orthodoxy. But still, when the supply response is so weak as it is in many countries, policymakers have to wonder whether there are other tacks they can take to spur the market on.

For one, free up cash in/out (CICO) networks from the clutches of banks and mobile money operators. Forcing service providers to be contractually responsible for anything that goes on in thousands of stores (the current regulatory mantra) is not only illusory but counterproductive: how can such fuzzy liability not lead to smaller, proprietary cash networks? Instead, create a license for CICO networks, with clear consumer protection rules, and let them operate for any and all financial service providers. All they would need to be a CICO point for a given bank or mobile money provider, beyond having a CICO licence, would be to have a funded account with that institution and access to their secure, real-time electronic channel.

Many regulators can also give up on their aspirations to be match-makers for happy bank-telco partnerships. These are not natural things, they remain rare on the ground to this day. They may emerge in time, but don't predicate the development of the sector on two species with different genetic make-up mating and working together (India's RBI, take note). Let banks and telcos compete, under clear guidelines and a level playing field. Let telcos and other non-bank players contest the market with an e-money license that exempts them from onerous prudential regulations for the very good reason that (if they are licensed and supervised properly) they do not create new prudential risks. Let banks compete on the basis of the same third-party CICO and account opening regulations that apply to non-banks, for the equally good reason that CICO and anti-money laundering risks are the same no matter who the account issuer is.

Regulators need to offer pathways to mobile money providers that require less commercial brute force. And providers need to develop a more nuanced view of how they can cooperate to build a new market and compete to gain share within that market. Such is the modern way with most network and digital industries.

Ignacio Mas is an independent consultant on mobile money and technology-enabled models for financial inclusion. He is also a Senior Research Fellow at the Saïd Business School at the University of Oxford, and a Senior Fellow at the Fletcher School's Center for Emerging Market Enterprises at Tufts University. Previously, he was Deputy Director of the Financial Services for the Poor program at the Bill & Melinda Gates Foundation, and Global Business Strategy Director at the Vodafone Group.

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